Spanish bailout fails to calm markets

Spain and Italy have appealed to European policymakers to step up the response to the financial crisis after a €100bn lifeline for Spanish banks failed to calm markets.

Spanish prime minister Mariano Rajoy said yesterday he will “battle” central bankers refusing to buy debt from peripheral nations. Rajoy published a letter to EU leaders calling for the European Central Bank to buy debt from the countries struggling to shore up their finances.

“That is the battle we have to wage in Europe,” Rajoy told the Spanish parliament in Madrid. “I am waging it.” His Italian counterpart, Mario Monti, told lawmakers in Rome Europe faces a “crucial” moment.

The leaders of southern Europe’s biggest economies went on the offensive as bond yields jumped following the announcement of a bailout for Spanish banks that was intended to quell concern over the countries’ finances. The decline wiped out the effects of €1tn in ECB loans for eurozone banks that had held yields in check since December.

Meanwhile, Spain’s credit rating was downgraded by both Moody’s Investors Service and Egan-Jones yesterday.

Moody’s cut its rating on Spanish government debt by three notches to Baa3 from A3.

Moody’s, which said it could lower Spain's rating further, also cited the Spanish government's “very limited” access to international debt markets and the weakness of the country’s economy.

Spain’s 10-year yields also declined 2 basis points to 6.69% following a surge after the bailout. Italian bonds strengthened after slumping the previous two days.

“The crisis will inevitably roll on to the next domino, and that’s Italy,” said James Nixon, chief European economist at Société Générale SA in London. “The southern European economies are effectively in freefall.”

Monti told lawmakers in the national parliament the EU does not have time to wait for austerity plans to stabilise borrowing costs, and officials must act to support growth as the Italian economy slides deeper into recession.

The Italian economy shrank by 0.8% in the first quarter compared with 0.7% in the previous three months and a 0.3% contraction in Spain in the first quarter. Italy’s borrowing costs surged at a sale of €6.5bn of one-year Treasury bills yielding 3.972%. One-year paper paid 2.34% at the previous sale on May 11.

“Above all, Europe needs more growth,” said Monti, who will travel to Berlin today.

Spiralling borrowing costs and shrinking output are opening divisions among EU leaders who face a series of hurdles in the coming days as bond investors question their ability to hold the eurozone together. Italy is due to sell another €3bn of bonds tomorrow.

— Bloomberg